IMF projected global debt to be strategically removed through secured governance

According to the International Monetary Fund, the debt of governments, households and non-financial corporations added up to $226 trillion in 2020 and $27 Trillion in 2019. The world’s advanced economies, including China, have contributed more than 90% to the accumulation of worldwide debt in 2020. The remaining emerging economies and low-income developing countries contributed only around 7%. This frightening figure needs to be understood properly.

To understand this properly, one should understand that debt is generally a liability to an external entity that must be re-paid with interest, as per any agreed terms. Since countries, whether they are large or small economies, all are in debt. This is why the massive figure of $226 trillion exists. On the whole, we must understand that there is no major external entity which is to be paid back, this is mainly an internal amount. 

These facts should not only be analyzed but should also be looked at in a refreshing way so as to transform these concepts into a perpetual growth strategy platform. This internal amount of debt can be nullified to get the country debt-free through the doctrine of secured governance for self-sustained growth.

Impact of Covid on global debt

Because of COVID-19, and the policies put in place to respond to it, debt levels increased fast and reached record-high levels. “High and rising levels of public and private debt are associated with risks to financial stability and public finances”, IMF Director of Fiscal Affairs Department Vitor Gaspar told reporters during a release of the 2021 Fiscal Monitor Report.

This increase is by far the largest on record. The figures include both public and private sector debt. In its 2021 Fiscal Monitor report, India’s debt increased from 68.9% of its GDP in 2016 to 89.6% in 2020. It is projected to jump to 90.6% in 2021 and then decline to 88.8% in 2022, to gradually reach 85.2% in 2026.

The IMF said risks to the fiscal outlook had been overestimated. A scaling up of vaccine production and delivery, especially to emerging markets and low-income developing countries, would limit further damage to the global economy. On the downside, new variants of the coronavirus, low vaccine coverage in many countries, and delays in some people’s acceptance of vaccination could inflict new damage and increase pressures on public budgets. The realisation of contingent liabilities including from loan and guarantee programs may also lead to unexpected increases in government debt, was said.

Further pressures could come from social discontent, with the crisis estimated to have thrown 65 million to 75 million people into poverty in 2021, relative to pre-pandemic trends. Large government financing needs are a source of vulnerability, especially in emerging markets and low-income developing countries where financing conditions are sensitive to global interest rates and central banks have begun to raise short-term reference rates.

Fiscal policy will need to respond nimbly to these challenges and facilitate the transformation of the global economy to make it more productive, inclusive, green and resilient to future health or other crises. At the same time, it will be crucial to ensure transparency and accountability, plot a medium-term path to rebuilding fiscal buffers and make progress toward the sustainable development goal.

Borrowing by governments accounted for slightly more than half of the increase, as the global public debt ratio jumped to a record 99% of GDP. Private debt from non-financial corporations and households also reached new highs.

Debt increases are particularly striking in advanced economies, where public debt rose from around 70% of GDP, in 2007, to 124% of GDP, in 2020. Private debt, on the other hand, rose at a more moderate pace from 164 to 178% of GDP, in the same period. Public debt now accounts for almost 40 percent of the total global debt, the highest share since the mid-1960s. The accumulation of public debt since 2007 is largely attributable to the two major economic crises governments have faced—first the global financial crisis, and then the COVID-19 pandemic.

The great debt dynamics

Debt dynamics, however, differ markedly across countries. Advanced economies and China accounted for more than 90 percent of the $28 trillion debt surge in 2020. These countries were able to expand public and private debt during the pandemic, thanks to low interest rates, the actions of central banks (including large purchases of government debt), and well-developed financial markets. But most developing economies are on the opposite side of the financing divide, facing limited access to funding and often higher borrowing rates. Looking at overall trends, we see two distinct developments.

In advanced economies, fiscal deficits soared as countries saw revenues collapse due to the recession and put in place sweeping fiscal measures as COVID-19 spread. Public debt rose to 19% of GDP, in 2020, an increase like that seen during the global financial crisis, over two years: 2008 and 2009. Private debt, however, jumped by 14% of GDP in 2020, almost twice as much as during the global financial crisis, reflecting the different nature of the two crises. 

During the pandemic, governments and central banks supported further borrowing by the private sector to help protect lives and livelihoods. During the global financial crisis, the challenge was to contain the damage from the excessively leveraged private sector.

Emerging markets and low-income developing countries faced much tighter financing constraints, but with large disparities across countries. China alone accounted for 26 percent of the global debt surge. Emerging markets (excluding China) and low-income countries accounted for small shares of the rise in global debt, around $1–$1.2 trillion each, mainly due to higher public debt.

Nevertheless, both emerging markets and low-income countries are also facing elevated debt ratios driven by the large fall in nominal GDP in 2020. Public debt in emerging markets reached record highs, while in low-income countries it rose to levels not seen since the early 2000s when many were benefiting from debt relief initiatives.

Overview of global debt

Global debt rose to a new record high of nearly $226 trillion in the second quarter, but the debt-to-GDP ratio declined for the first time since the start of the pandemic as economic growth rebounded. The rise in debt levels was the sharpest among emerging markets, with total debt rising$3.5 trillion in the second quarter from the preceding three months to reach almost $92 trillion. Debt as a share of the gross domestic product fell to around 353% in the second quarter, from a record high of 362% in the first three months of this year.

In many cases, the recovery was not strong enough to push debt ratios back below pre-pandemic levels. According to the Institute of International Finance (IIF), the total debt-to-GDP ratios excluding the financial sector are below pre-pandemic levels in just five countries: Mexico, Argentina, Denmark, Ireland, and Lebanon.

The IIF noted that after a slight decline in the first quarter, debt among developed economies – especially the euro area – rose again in the second quarter. In the United States, debt accumulation of around $490 billion was the slowest since the start of the pandemic, although household debt increased at a record pace.

Globally, household debt rose by $1.5 trillion in the first six months of this year to $55 trillion. The IIF noted that almost a third of the countries in its study saw an increase in household debt in the first half. The rise in household debt has been in line with rising house prices in almost every major economy in the world.

Difficult balancing act

The large increase in debt was justified by the need to protect people’s lives, preserve jobs, and avoid a wave of bankruptcies. If governments had not acted, the social and economic consequences would have been devastating. But the debt surge amplifies vulnerabilities, especially as financing conditions tighten. High debt levels constrain, in most cases, the ability of governments to support the recovery and the capacity of the private sector to invest in the medium term.

A crucial challenge is to strike the right mix of fiscal and monetary policies in an environment of high debt and rising inflation. Fiscal and monetary policies, fortunately, complemented each other during the worst of the pandemic. Central bank actions, especially in advanced economies, pushed interest rates down to their limit and made it easier for governments to borrow.

Monetary policy is now appropriately shifting focus to rising inflation and inflation expectations. While an increase in inflation, and nominal GDP, helps reduce debt ratios in some cases, this is unlikely to sustain a significant decline in debt. As central banks raise interest rates to prevent persistently high inflation, borrowing costs rise.

In many emerging markets, policy rates have already increased, and further rises are expected. Central banks are also planning to reduce their large purchases of government debt and other assets in advanced economies—but how this reduction is carried out will have implications for the economic recovery and fiscal policy.

As interest rates rise, fiscal policy will need to adjust, especially in countries with higher debt vulnerabilities. As history shows, fiscal support will become less effective when interest rates respond—that is, higher spending (or lower taxes) will have less impact on economic activity and employment and could fuel inflation pressures. Debt sustainability concerns are likely to intensify.

The risks will be magnified if global interest rates rise faster than expected and growth falters. A significant tightening of financial conditions would heighten the pressure on the most highly indebted governments, households and firms. If the public and private sectors are forced to deleverage simultaneously, growth prospects will suffer.

The uncertain outlook and heightened vulnerabilities make it critical to achieve the right balance between policy flexibility, nimble adjustment to changing circumstances, and commitment to credible and sustainable medium-term fiscal plans. Such a strategy would both reduce debt vulnerabilities and facilitate the work of central banks to contain inflation.

Some countries—especially those with high gross financing needs (rollover risks) or exposure to exchange rate volatility—may need to adjust faster to preserve market confidence and prevent more disruptive fiscal distress. The pandemic and the global financing divide demand strong, effective international cooperation and support to developing countries.